Key Highlights

  • Seven of nine Monetary Policy Committee members backed the hold at 3.75%, consistent with the April vote structure, as the committee monitors whether Iran war-driven energy costs generate second-round wage and price effects.
  • UK CPI held at a cooler-than-expected 2.8% in May, but the relief is expected to be temporary, with the Ofgem energy price cap due to rise by 13% later this summer, pushing utility bills to a two-year high.
  • Markets are still pricing in at least one rate increase before year-end despite the Iran ceasefire, reflecting the lagged inflation pass-through from elevated energy costs already embedded in the supply chain.

The Bank of England voted to hold Bank Rate at 3.75% on Thursday, a decision that was almost entirely anticipated by financial markets ahead of the meeting. CPI inflation stood at 3.3% in March, above the MPC's 2% target, and the committee has projected it to rise further in the third and fourth quarters as higher energy and food costs continue to pass through.

The May inflation print offered a temporary reprieve. UK CPI held at 2.8%, driven by rising transport fuel costs but partially offset by base effects connected to the regulated energy price cap. The relief is unlikely to persist. The Ofgem price cap is scheduled to rise by 13% in the summer months, at which point household energy bills will reach their highest level in two years, adding fresh upward pressure to the headline rate at precisely the moment when the committee would prefer room to ease.

The MPC noted that higher oil prices have fed through to higher petrol and diesel pump prices and are expected to push CPI inflation further higher in the second quarter, while higher wholesale gas futures prices will mostly affect household utility bills from July following the expected increase in the Ofgem price cap.

The UK's vulnerability reflects its structural position as a net energy importer. A GDP contraction of 0.1% in April, driven by the demand-side effects of elevated energy costs on consumer spending, frames the committee's dilemma: the inflation outlook calls for restraint, while the growth backdrop argues against tightening.

The IMF has suggested that holding Bank Rate at 3.75% for the remainder of the year should be sufficient to bring inflation back to target by end-2027, but added that the Bank should be prepared to cut if economic conditions deteriorate, even as it cautioned against allowing higher energy prices to spill over into core inflation and wage growth.

Thursday's decision sits within a broader global central bank divergence that has sharpened this week. The ECB raised rates at its June 11 meeting in response to Iran war-driven inflation pressures, lifting its deposit rate to 2.25%. The Bank of Japan raised its policy rate to a 31-year high of 1% on Tuesday. The Federal Reserve held on Wednesday but delivered a hawkish surprise via a dot plot that now points toward rate increases rather than cuts, unsettling equity and bond markets in the process.